The unprecedented scope and potential impact of the rapidly morphing covid-19 pandemic on human health, security and livelihood has been reflected in financial markets through a fast and furious decline in risky assets like equities. But as strategists at BNP Paribas noted earlier this week, unlike during previous periods of market turmoil, investor flight into traditional safe-haven assets (such as U.S. Treasuries) hasn’t supported REITs.
Despite cash flow and dividend characteristics that have historically defended better than other equity market sectors during nervous times, listed real estate has been harder-hit than the broader aggregate of U.S. stocks since the coronavirus crisis began to unfold earlier this year. With broader equities down 24% for the year-to-date, listed real estate as a group has declined more than 30%.
The recent selloff has been particularly acute in the real estate of health care, down more than 40% during the same period.
Recession: Three Keys to Recovery
In a recent call to clients, Joseph Harvey, President of Cohen & Steers, the New York-based investment management firm with nearly $70 billion in assets under management in listed real assets, said that his firm is operating from a base-case scenario of global recessionary environment for 2020.
In this scenario, a sharp recession in the U.S. would show signs of recovery late in the third quarter in a “U-shaped” pattern, contingent upon three factors: the trajectory of the virus (and the outcome of efforts to control it); political willingness to provide (and willingness of sovereign bond markets to finance) economic stimulus and backstops, and the availability of credit and capital to lower- and non-investment grade companies.
REITs: Three Reasons To Be Constructive
Speaking to clients on the same call, Thomas Bohjalian, Cohen & Steers Portfolio Manager and Head of U.S. Real Estate, said the firm has adjusted its growth projections for listed REITs in 2020 from single digital growth in 2020 and 2021 to average growth of zero in 2020, followed by material re-acceleration, possibly in the double digit range, in 2021.
No property type will be completely unaffected by a severe recession, he noted.
But despite the bleak near-term growth forecast, Bohjalian said current balance sheet positions for the listed REITs in the firm’s portfolio are uncommonly strong, due to three key risk mitigation factors: low leverage, staggered [debt] maturities over the next 5-10 years, and access to capital in a well-functioning banking system.
While selected sectors are already experiencing an unprecedented interruption in the cash flows that have traditionally attracted investors to REITs as an asset class, he is constructive on both short-term value and longer-term recovery prospects of “going-concern” business models.
“Investors should expect to see a disruption in cash flow. [But] I think investors are making the assumption that they [REITs] will never come back. That’s a false assumption,” Bohjalian said.
Health Care REITs: Three Targeted Subsectors
Bohjalian was optimistic about the opportunity in needs-based health care REITs, specifically in three targeted subsectors: skilled nursing facilities, whose services are government reimbursed; medical office buildings, which may benefit from a demand shift for treatments done in an outpatient setting; and finally senior housing, where cash flows are experiencing near-term disruption due to widespread quarantines, but where many companies are currently trading at five times cash flow on projected 2021 revenues, thus presenting a compelling value opportunity.
Finally, Bohjalian said that for companies experiencing cash flow interruptions, his team is currently stress-testing balance sheets and modeling cash burn rate scenarios in the expectation that they can survive under that same cash flow disruption while still meeting all maturities and/or obligations.